Investing in Asia small caps: Looking beyond the obvious

Investing in Asia’s smaller companies often means looking beyond the most obvious market themes. While areas such as artificial intelligence and the technology supply chain have attracted significant attention, some of the most interesting opportunities can come from less widely followed businesses and markets.

Against this backdrop, the end of July marked an important milestone for Aberdeen Asia Focus. The Trust's five-year conditional tender offer period concluded and, with the Trust having outperformed its benchmark over that period, no tender offer will be triggered.

This outcome provides an opportunity to reflect on what drove returns over the period and what lessons might help shape the next phase of the Trust's journey.

One conclusion stands out for me: successful investing in Asia’s smaller companies often requires looking beyond the most obvious themes. 

In recent years, artificial intelligence (AI) and the technology supply chain have captured the imagination of many and the attention of the market. 

The Trust benefited from that trend, with several Taiwanese technology holdings among the best performers, reflecting both the structural growth in semiconductor demand and effective stock selection. Taiwan Union Technology, for instance, benefited from solid demand for its higher-end copper-clad laminates, which are used in advanced printed circuit boards.

Yet the story of the portfolio's performance is much broader than AI.

Some of the Trust's most important contributors came from areas of the market that received far less attention. Holdings in plantation businesses, financial services, logistics and domestic consumption generated solid long-term returns despite attracting little investor excitement at the time.

A striking observation is that Indonesia contributed almost as much to the Trust’s outperformance against the benchmark over the five-year period as Taiwan, despite being one of the region's weaker stock markets. Here, I would single out OCBC Bank NISP, which has delivered consistent strong performance by running a conservative business, keeping bad loans low and steadily growing higher-margin lending to small- and medium-sized businesses.

This reinforces a key investing principle. Some of the best opportunities emerge when quality businesses are overlooked, are not the flavour of the month, or are operating in markets where investor sentiment is weak.

Reasonable valuations have also been a common factor behind many of our rewarding investments. Several of the portfolio's best performers were acquired when they traded on modest earnings multiples and attractive dividend yields. Market enthusiasm may influence short-term share prices, but over longer periods, solid fundamentals, steady cash generation and valuation matter more in driving shareholder returns.

Taking a differentiated view from the market has also been important. Some of our most successful investments started as relatively small, illiquid companies with limited research coverage. These situations often require patience and conviction. They can be uncomfortable investments in the short term, but they can also create significant long-term value when their operational progress eventually attracts wider investor attention.

For example, a contrarian call that has proved rewarding has been China’s Precision Tsugami, which makes high-precision machine tools. We had bought it when it was extremely illiquid with no broker coverage, but attractively valued. When we first invested, we wanted comfort that the interests of minority shareholders were aligned with those of the Japanese parent company. Over time, greater transparency around the relationship, together with consistent execution and steady earnings results, gave us confidence that the arrangement was working well for all shareholders.

As we begin a new five-year measurement period, these lessons remain relevant.

Our portfolio continues to be diversified across four broad regions: India, China, ASEAN, and Korea/Taiwan. Each provides different drivers of return, different economic exposures, and different valuation opportunities. We believe this balance helps create a more resilient portfolio than one heavily reliant on any single country, sector, or investment theme.

Our recent portfolio activity reflects this approach. Over the past year we have taken meaningful profits from several technology holdings following a sharp rally in their share prices. This disciplined profit-taking helped the Trust navigate the technology-led volatility seen during the middle of this year.

At the same time, we have re-invested capital into a broader range of opportunities. We have been selective in adding positions across Korean semiconductor equipment, industrial technology, communications infrastructure, as well as businesses linked to power and data centre investment. We have also started building exposure to port infrastructure and logistics businesses that stand to benefit from growing intra-Asian trade.

Beyond technology, Vietnam remains an area of considerable interest, given its attractive combination of economic growth, improving corporate quality and reasonable valuations. 
 
India is also an important hunting ground for investment ideas, although elevated valuations across parts of the market mean that we need to be even more selective in our stock picks than in previous years.

The recent technology correction is a useful reminder that markets rarely move in straight lines. While AI will undoubtedly remain an important investment theme, we believe that long-term success in Asia will continue to come from maintaining a broad opportunity set and looking beyond whatever currently dominates headlines.

This philosophy has served the Trust well over the past five years. It will remain central to how we invest over the next five. 

Companies selected for illustrative purposes only to demonstrate the investment management style described herein and not as an investment recommendation or indication of future performance.

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Issued by abrdn Fund Managers Limited, registered in England and Wales (740118) at 280 Bishopsgate, London EC2M 4AG. The company is authorised and regulated by the Financial Conduct Authority in the UK.

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